OVERVIEW:
PACCAR is a global technology company whose Truck segment includes the design and manufacture of high-quality light-, medium- and heavy-duty commercial trucks. InNorth America , trucks are sold under the Kenworth andPeterbilt nameplates, inEurope , under the DAF nameplate and inAustralia andSouth America , under the Kenworth and DAF nameplates. The Parts segment includes the distribution of aftermarket parts for trucks and related commercial vehicles. The Company's Financial Services segment derives its earnings primarily from financing or leasingPACCAR products inNorth America ,Europe andAustralia . The Company's Other business includes the manufacturing and marketing of industrial winches. 2019 Financial Highlights
• Worldwide net sales and revenues were a record
compared to
and Financial Services segments.
• Truck sales were
primarily due to higher truck deliveries in the
America.
• Parts sales were
primarily due to higher demand in the
• Financial Services revenues were
billion in 2018. The increase was primarily due to higher average earning
asset balances and higher yields in
• In 2019,
was
(
revenues and operating results.
• Capital investments were
2018 reflecting continued investments in the Company's manufacturing
facilities, new product development and enhanced aftermarket support.
• After-tax return on beginning equity (ROE) was 27.8% in 2019 compared to
27.3% in 2018.
• Research and development (R&D) expenses were
to
InJanuary 2020 ,PACCAR exhibited three vehicles with autonomous and alternative powertrain technologies at the CES 2020 show inLas Vegas, Nevada : a level 4 autonomous Kenworth T680; a battery-electric Peterbilt Model 520EV; and a battery-electric Kenworth K270E. These trucks are designed for a range of customer applications, including over-the-road transportation, refuse collection and urban distribution.Peterbilt , Kenworth and DAF are field-testing battery-electric, hydrogen fuel cell and hybrid powertrain trucks with customers inNorth America andEurope . These customer field tests are providing excellent feedback on future truck technologies, which will supportPACCAR's environmental and engineering leadership with the development of innovative alternative powertrain technologies.PACCAR continues to add global distribution capacity to deliver industry-leading aftermarket parts availability to customers.PACCAR will open a new 250,000 square-foot parts distribution center inLas Vegas, Nevada and a new 160,000 square-foot parts distribution center in Ponta Grossa, Brasil in 2020 to enhance parts availability for customers.PACCAR has been honored for the second consecutive year as a global leader in environmental practices by environmental reporting firm CDP, earning recognition on the 2019 CDP Climate Change A List. Over 8,000 companies disclosed data about their environmental impacts, risks and opportunities to CDP for independent assessment.PACCAR is one of only 35 companies in theU.S. earning a CDP score of "A" and is placed in the top 2% of reporting companies worldwide.The PACCAR Financial Services (PFS) group of companies has operations covering four continents and 25 countries. The global breadth of PFS and its rigorous credit application process support a portfolio of loans and leases with record total assets of$16.07 billion . PFS issued$2.49 billion in medium-term notes during 2019 to support portfolio growth and repay maturing debt. 14 --------------------------------------------------------------------------------
Truck Outlook
Heavy-duty truck industry retail sales in theU.S. andCanada in 2020 are expected to decrease to 230,000 to 260,000 units compared to 308,800 in 2019. InEurope , the 2020 truck industry registrations for over 16-tonne vehicles are expected to be 260,000 to 290,000 units compared to 320,200 in 2019. InSouth America , heavy-duty truck industry sales in 2020 are estimated to be 100,000 to 110,000 units compared to 105,000 units in 2019.
Parts Outlook
In 2020, PACCAR Parts sales are expected to grow 4-6% compared to 2019.
Financial Services Outlook
Based on the truck market outlook, average earning assets in 2020 are expected to remain similar to 2019 levels. Current strong levels of freight tonnage are contributing to customers' profitability and cash flow. If current freight transportation conditions decline due to weaker economic conditions, then past due accounts, truck repossessions and credit losses would likely increase from the current low levels and new business volume would likely decline.
Capital Spending and R&D Outlook
Capital investments in 2020 are expected to be$625 to$675 million , and R&D is expected to be$310 to$340 million . The Company is investing for long-term growth in aerodynamic truck models, integrated powertrains including diesel, electric, hybrid and hydrogen fuel cell technologies, advanced driver assistance systems, digital services and next-generation manufacturing and distribution capabilities.
See the Forward-Looking Statements section of Management's Discussion and Analysis for factors that may affect these outlooks.
15
--------------------------------------------------------------------------------
RESULTS OF OPERATIONS:
The Company's results of operations for the years endedDecember 31, 2019 and 2018 are presented below. For information on the year endedDecember 31, 2017 , refer to Part II, Item 7 in the 2018 Annual Report on Form 10-K. ($ in millions, except per share amounts) Year Ended December 31, 2019 2018 Net sales and revenues: Truck$ 19,989.5 $ 18,187.0 Parts 4,024.9 3,838.9 Other 105.3 112.7 Truck, Parts and Other 24,119.7 22,138.6 Financial Services 1,480.0 1,357.1$ 25,599.7 $ 23,495.7 Income (loss) before income taxes: Truck$ 1,904.9 $ 1,672.1 Parts 830.8 768.6 Other (17.7 ) 2.7 Truck, Parts and Other 2,718.0 2,443.4 Financial Services 298.9 305.9 Investment income 82.3 60.9 Income taxes (711.3 ) (615.1 ) Net Income$ 2,387.9 $ 2,195.1 Diluted earnings per share$ 6.87 $ 6.24 After-tax return on revenues 9.3 % 9.3 % The following provides an analysis of the results of operations for the Company's three reportable segments - Truck, Parts and Financial Services. Where possible, the Company has quantified the impact of factors identified in the following discussion and analysis. In cases where it is not possible to quantify the impact of factors, the Company lists them in estimated order of importance. Factors for which the Company is unable to specifically quantify the impact include market demand, fuel prices, freight tonnage and economic conditions affecting the Company's results of operations.
2019 Compared to 2018:
Truck
The Company's Truck segment accounted for 78% of revenues in 2019 compared to 77% in 2018.
The Company's new truck deliveries are summarized below:
Year Ended December 31, 2019 2018 % CHANGE U.S. and Canada 117,200 105,300 11 Europe 59,900 63,800 (6 ) Mexico, South America, Australia and other 21,700 20,000 9 Total units 198,800 189,100 5 In 2019, industry retail sales in the heavy-duty market in theU.S. andCanada increased to 308,800 units from 284,800 units in 2018. The Company's heavy-duty truck retail market share was 30.0% in 2019 compared to 29.4% in 2018. The medium-duty market was 108,100 units in 2019 compared to 98,100 units in 2018. The Company's medium-duty market share was 16.9% in 2019 compared to 17.7% in 2018. 16
-------------------------------------------------------------------------------- The over 16tonne truck market inEurope in 2019 increased to 320,200 units from 318,800 units in 2018, and DAF's market share was 16.2% in 2019 compared to 16.6% in 2018. The 6 to 16tonne market in 2019 increased to 53,600 units from 51,900 units in 2018. DAF's market share in the 6 to 16-tonne market in 2019 was 9.7% compared to 9.0% in 2018.
The Company's worldwide truck net sales and revenues are summarized below:
($ in millions) Year Ended December 31, 2019 2018 % CHANGE Truck net sales and revenues: U.S. and Canada$ 13,106.5 $ 11,357.0
15
Europe 4,797.6 4,808.4
3
$ 19,989.5 $ 18,187.0
10
Truck income before income taxes$ 1,904.9 $ 1,672.1 14 Pre-tax return on revenues 9.5 % 9.2 % The Company's worldwide truck net sales and revenues increased to$19.99 billion in 2019 from$18.19 billion in 2018, primarily due to higher truck deliveries in theU.S. andCanada andLatin America , partially offset by unfavorable currency translation effects. Truck segment income before income taxes and pre-tax return on revenues increased in 2019, reflecting higher truck unit deliveries and higher gross margins. The major factors for the Truck segment changes in net sales and revenues, cost of sales and revenues and gross margin between 2019 and 2018 are as follows: NET COST OF SALES AND SALES AND GROSS ($ in millions) REVENUES REVENUES MARGIN 2018$ 18,187.0 $ 16,039.5 $ 2,147.5 Increase (decrease) Truck sales volume 1,613.3 1,395.8 217.5 Average truck sales prices 489.8 489.8 Average per truck material, labor and other direct costs 297.8 (297.8 ) Factory overhead and other indirect costs 65.2 (65.2 ) Extended warranties, operating leases and other 71.9 101.9 (30.0 ) Currency translation (372.5 ) (337.6 ) (34.9 ) Total increase 1,802.5 1,523.1 279.4 2019$ 19,989.5 $ 17,562.6 $ 2,426.9
• Truck sales volume primarily reflects higher truck deliveries in the
decrease in units accounted for as operating leases, resulting in higher
sales (
• Average truck sales prices increased sales by
to higher price realization in
• Average cost per truck increased cost of sales by
reflecting higher material and labor costs.
• Factory overhead and other indirect costs increased
due to higher salaries and related expenses and higher supplies and
maintenance costs to support increased truck production.
• Extended warranties, operating leases and other revenues increased by
million primarily due to a higher volume of repair and maintenance (R&M) and
extended warranty contracts, as well as higher revenues from operating
leases. Cost of sales and revenues increased by
to higher impairments and losses on used trucks and higher costs of extended
warranty and R&M contracts.
• The currency translation effect on sales and cost of sales reflects a decline
in the value of foreign currencies relative to the
euro.
• Truck gross margins increased to 12.1% in 2019 from 11.8% in 2018, primarily
due to the factors noted above. 17
-------------------------------------------------------------------------------- Truck selling, general and administrative expenses (SG&A) for 2019 increased to$269.7 million from$248.3 million in 2018. The increase was primarily due to higher professional fees ($24.4 million ) and higher salaries and related expenses ($6.8 million ), partially offset by favorable currency translation effects ($9.7 million ). As a percentage of sales, Truck SG&A decreased to 1.3% in 2019 from 1.4% in 2018 due to higher net sales.
Parts
The Company's Parts segment accounted for 16% of revenues in 2019 and 2018.
($ in millions) Year Ended December 31, 2019 2018 % CHANGE Parts net sales and revenues: U.S. and Canada$ 2,731.7 $ 2,545.1 7 Europe 908.5 921.4 (1 ) Mexico, South America, Australia and other 384.7 372.4
3
$ 4,024.9 $ 3,838.9
5
Parts income before income taxes$ 830.8 $ 768.6 8 Pre-tax return on revenues 20.6 % 20.0 % The Company's worldwide parts net sales and revenues increased to a record$4.02 billion in 2019 from$3.84 billion in 2018, due to higher aftermarket demand inU.S. andCanada . The increase in Parts segment income before income taxes and pre-tax return on revenues in 2019 was primarily due to higher sales volume and higher price realization, partially offset by unfavorable currency translation. The major factors for the Parts segment changes in net sales and revenues, cost of sales and revenues and gross margin between 2019 and 2018 are as follows: NET COST OF SALES AND SALES AND GROSS ($ in millions) REVENUES REVENUES MARGIN 2018$ 3,838.9 $ 2,793.5 $ 1,045.4 Increase (decrease) Aftermarket parts volume 75.4 51.1 24.3 Average aftermarket parts sales prices 173.9
173.9
Average aftermarket parts direct costs 85.5 (85.5 ) Warehouse and other indirect costs 17.6 (17.6 ) Currency translation (63.3 ) (40.9 ) (22.4 ) Total increase 186.0 113.3 72.7 2019$ 4,024.9 $ 2,906.8 $ 1,118.1
• Aftermarket parts sales volume increased by
sales increased by
• Average aftermarket parts sales prices increased sales by
primarily due to higher price realization in the
• Average aftermarket parts direct costs increased
material costs.
• Warehouse and other indirect costs increased
higher salaries and related expenses and higher depreciation expense.
• The currency translation effect on sales and cost of sales primarily reflects
a decline in the value of foreign currencies relative to the
primarily the euro.
• Parts gross margins in 2019 increased to 27.8% from 27.2% in 2018 due to the
factors noted above.
Parts SG&A expense for 2019 was$207.8 million compared to$206.2 million in 2018 primarily due to higher salaries and related expenses, partially offset by lower sales and marketing costs and favorable currency translation effects. As a percentage of sales, Parts SG&A decreased to 5.2% in 2019 from 5.4% in 2018, primarily due to higher net sales. 18 --------------------------------------------------------------------------------
Financial Services
The Company's Financial Services segment accounted for 6% of revenues in 2019 and 2018. ($ in millions) Year Ended December 31, 2019 2018 % CHANGE New loan and lease volume: U.S. and Canada$ 3,425.8 $ 3,076.7 11 Europe 1,349.5 1,364.5 (1 ) Mexico, Australia and other 857.7 792.1 8$ 5,633.0 $ 5,233.3 8 New loan and lease volume by product: Loans and finance leases$ 4,277.1 $ 4,177.3 2 Equipment on operating lease 1,355.9 1,056.0 28$ 5,633.0 $ 5,233.3 8 New loan and lease unit volume: Loans and finance leases 38,000 40,500 (6 ) Equipment on operating lease 13,700 10,300 33 51,700 50,800 2 Average earning assets: U.S. and Canada$ 8,837.7 $ 7,815.4 13 Europe 3,547.6 3,364.9 5 Mexico, Australia and other 1,895.5 1,749.9 8$ 14,280.8 $ 12,930.2 10 Average earning assets by product: Loans and finance leases$ 8,758.8 $ 8,094.4
8
Dealer wholesale financing 2,428.8 1,847.1
31
Equipment on lease and other 3,093.2 2,988.7 3$ 14,280.8 $ 12,930.2 10 Revenues: U.S. and Canada$ 810.1 $ 763.8 6 Europe 409.3 352.6 16 Mexico, Australia and other 260.6 240.7 8$ 1,480.0 $ 1,357.1 9 Revenues by product: Loans and finance leases$ 470.2 $ 425.2 11 Dealer wholesale financing 112.8 72.5
56
Equipment on lease and other 897.0 859.4 4$ 1,480.0 $ 1,357.1 9 Income before income taxes$ 298.9 $ 305.9 (2 ) New loan and lease volume was a record$5.63 billion in 2019 compared to$5.23 billion in 2018, primarily reflecting higher truck deliveries in theU.S. andCanada . PFS finance market share of newPACCAR truck sales was 24.5% in 2019 compared to 23.9% in 2018. PFS revenues increased to$1.48 billion in 2019 from$1.36 billion in 2018. The increase was primarily due to revenue on higher average earning assets and higher portfolio yields reflecting higher market interest rates inNorth America , and higher used truck sales volume inEurope , partially offset by the effects of translating weaker foreign currencies to theU.S. dollar. The effects of currency translation decreased PFS revenues by$26.7 million in 2019, primarily due to changes in the euro. PFS income before income taxes decreased to$298.9 million in 2019 from$305.9 million in 2018, primarily due to lower results on returned lease assets and higher SG&A expenses as$12.0 million of certain initial direct costs were immediately expensed in 2019 with the adoption of the new lease standard, partially offset by higher average earning assets balances. Currency exchange effects decreased PFS income before taxes by$3.2 million in 2019. 19 --------------------------------------------------------------------------------
Included in Financial Services "Other Assets" on the Company's Consolidated
Balance Sheets are used trucks held for sale, net of impairments, of
The Company recognized losses on used trucks, excluding repossessions, of$57.5 million in 2019 compared to$35.4 million in 2018, including losses on multiple unit transactions of$19.1 million in 2019 compared to$20.2 million in 2018. Used truck losses related to repossessions, which are recognized as credit losses, were not significant for 2019 or 2018. The major factors for the changes in interest and fees, interest and other borrowing expenses and finance margin between 2019 and 2018 are outlined below: INTEREST AND OTHER INTEREST BORROWING FINANCE ($ in millions) AND FEES EXPENSES MARGIN 2018$ 497.7 $ 186.9 $ 310.8 Increase (decrease) Average finance receivables 75.4 75.4 Average debt balances 31.5 (31.5 ) Yields 16.6 16.6 Borrowing rates 14.0 (14.0 ) Currency translation and other (6.7 ) (1.9 ) (4.8 ) Total increase 85.3 43.6 41.7 2019$ 583.0 $ 230.5 $ 352.5
• Average finance receivables increased
exchange effects) in 2019 as a result of retail portfolio new business volume
exceeding collections and higher dealer wholesale balances.
• Average debt balances increased
effects) in 2019. The higher average debt balances reflect funding for a higher average earning assets portfolio, which includes loans, finance leases, wholesale receivables and equipment on operating lease.
• Higher portfolio yields (5.2% in 2019 compared to 5.0% in 2018) increased
interest and fees by
primarily due to higher market rates in
• Higher borrowing rates (2.2% in 2019 compared to 2.0% in 2018) were primarily
due to higher debt market rates in
• The currency translation effects reflect a decrease in the value of foreign
currencies relative to the
and Canadian dollars and the British pound.
The following table summarizes operating lease, rental and other revenues and depreciation and other expenses:
($ in millions) Year Ended December 31, 2019 2018
Operating lease and rental revenues
66.0 33.4
Operating lease, rental and other revenues
Depreciation of operating lease equipment
143.8 121.5 Cost of used truck sales and other 49.0 18.3 Depreciation and other expenses$ 798.2 $ 728.0 20
-------------------------------------------------------------------------------- The major factors for the changes in operating lease, rental and other revenues, depreciation and other expenses and lease margin between 2019 and 2018 are outlined below: OPERATING LEASE, RENTAL AND DEPRECIATION LEASE ($ in millions) OTHER REVENUES AND OTHER EXPENSES MARGIN 2018 $ 859.4 $ 728.0$ 131.4 Increase (decrease) Used truck sales 32.3 31.1 1.2 Results on returned lease assets 28.9 (28.9 ) Average operating lease assets 34.7 30.0 4.7 Revenue and cost per asset (11.2 ) (.9 ) (10.3 ) Currency translation and other (18.2 ) (18.9 ) .7 Total increase (decrease) 37.6 70.2 (32.6 ) 2019 $ 897.0 $ 798.2$ 98.8
• A higher sales volume of used trucks received on trade increased operating
lease, rental and other revenues by
and other expenses by
• Results on returned lease assets increased depreciation and other expenses by
in
• Average operating lease assets increased
exchange effects), which increased revenues by
depreciation and other expenses by
• Revenue per asset decreased
income and lower fleet utilization. Cost per asset decreased
to lower depreciation expense and lower vehicle related expenses, partially
offset by higher operating lease impairments in
• The currency translation effects reflect a decrease in the value of foreign
currencies relative to the
Financial Services SG&A expense increased to$137.0 million in 2019 from$119.8 million in 2018. The increase was due to higher salaries and related expenses to support portfolio growth and the adoption of the new lease accounting standard under which$12.0 million of certain initial direct costs were immediately expensed. In prior years, these costs were capitalized and amortized to expense over the lease term. As a percentage of revenues, Financial Services SG&A increased to 9.3% in 2019 from 8.8% in 2018. The following table summarizes the provision for losses on receivables and net charge-offs: 2019 2018 PROVISION FOR PROVISION FOR LOSSES ON NET LOSSES ON NET ($ in millions) RECEIVABLES CHARGE-OFFS RECEIVABLES CHARGE-OFFS U.S. and Canada $ 13.5$ 14.0 $ 10.4 $ 6.9 Europe (3.2 ) (.8 ) (.8 ) 5.9 Mexico, Australia and other 5.1 4.2 6.9 4.4 $ 15.4$ 17.4 $ 16.5$ 17.2 The provision for losses on receivables was$15.4 million in 2019 compared to$16.5 million in 2018, reflecting continued good portfolio performance. The decrease in provision for losses was primarily driven by higher recoveries on charged-off accounts inEurope . The Company modifies loans and finance leases as a normal part of its Financial Services operations. The Company may modify loans and finance leases for commercial reasons or for credit reasons. Modifications for commercial reasons are changes to contract terms for customers that are not considered to be in financial difficulty. Insignificant delays are modifications extending terms up to three months for customers experiencing some short-term financial stress, but not considered to be in financial difficulty. Modifications for credit reasons are changes to contract terms for customers considered to be in financial difficulty. The Company's modifications typically result in granting more time to pay the contractual amounts owed and charging a fee and interest for the term of the modification. When considering whether to modify customer accounts for credit reasons, the Company evaluates the creditworthiness 21 -------------------------------------------------------------------------------- of the customers and modifies those accounts that the Company considers likely to perform under the modified terms. When the Company modifies a loan or finance lease for credit reasons and grants a concession, the modification is classified as a troubled debt restructuring (TDR).
The post-modification balance of accounts modified during the years ended
2019 2018 RECORDED % OF TOTAL RECORDED % OF TOTAL ($ in millions) INVESTMENT PORTFOLIO* INVESTMENT PORTFOLIO* Commercial$ 316.4 3.5 %$ 213.6 2.5 % Insignificant delay 83.2 .9 % 50.3 .6 % Credit - no concession 23.3 .3 % 52.2 .6 % Credit - TDR 2.5 13.1 .2 %$ 425.4 4.7 %$ 329.2 3.9 %
* Recorded investment immediately after modification as a percentage of the
year-end retail portfolio balance.
In 2019, total modification activity increased compared to 2018 due to higher modifications for commercial reasons and insignificant delay, partially offset by lower modifications for credit - no concession and credit - TDR. The increase in modifications for commercial reasons primarily reflects higher volumes of refinancing. The increase in modifications for insignificant delay reflects more fleet customers requesting payment relief for up to three months. The decrease in modifications for credit - no concession is primarily due to lower volumes of refinancing inEurope for customers in financial difficulty. Credit - TDR modifications decreased to$2.5 million in 2019 from$13.1 million in 2018 as there were no large fleet modifications in 2019 compared to modifications for two fleet customers in 2018.
The following table summarizes the Company's 30+ days past due accounts:
AtDecember 31, 2019
2018
Percentage of retail loan and lease accounts 30+ days past due: U.S. and Canada .4 % .1 % Europe .7 % .5 % Mexico, Australia and other 2.0 % 1.6 % Worldwide .7 % .4 % Accounts 30+ days past due increased slightly to .7% atDecember 31, 2019 from .4% atDecember 31, 2018 , and remain at low levels. The Company continues to focus on maintaining low past due balances. When the Company modifies a 30+ days past due account, the customer is then generally considered current under the revised contractual terms. The Company modified$1.7 million and$7.2 million of accounts worldwide during the fourth quarter of 2019 and the fourth quarter of 2018, respectively, which were 30+ days past due and became current at the time of modification. Had these accounts not been modified and continued to not make payments, the pro forma percentage of retail loan and lease accounts 30+ days past due would have been as follows: At December 31, 2019 2018 Pro forma percentage of retail loan and lease accounts 30+ days past due: U.S. and Canada .4 % .2 % Europe .7 % .5 % Mexico, Australia and other 2.1 % 1.8 % Worldwide .7 % .5 % Modifications of accounts in prior quarters that were more than 30 days past due at the time of modification are included in past dues if they were not performing under the modified terms atDecember 31, 2019 and 2018. The effect on the allowance for credit losses from such modifications was not significant atDecember 31, 2019 and 2018.
The Company's 2019 and 2018 annualized pre-tax return on average assets for Financial Services was 2.0% and 2.2%, respectively.
22 --------------------------------------------------------------------------------
Other
Other includes the winch business as well as sales, income and expenses not attributable to a reportable segment. Other also includes non-service cost components of pension expense and a portion of corporate expense. Other sales represent less than 1% of consolidated net sales and revenues for 2019 and 2018. Other SG&A increased to$84.0 million in 2019 from$70.4 million in 2018 primarily due to higher compensation costs. Other (loss) income before tax was$(17.7) million in 2019 compared to$2.7 million in 2018. The loss in 2019 compared to income in 2018 was primarily due to higher compensation costs, lower results from the winch business and higher expected costs to resolve certain environmental matters. Investment income increased to$82.3 million in 2019 from$60.9 million in 2018, primarily due to higher average portfolio balances and higher yields onU.S. investments due to higher market interest rates.
Income Taxes
In 2019, the effective tax rate was 23.0% compared to 21.9% in 2018. The Company's effective tax rate for 2018 benefitted from a one-time reduction in tax liability related to extended warranty contracts.
($ in millions) Year Ended December 31, 2019 2018 Domestic income before taxes$ 2,201.1 $ 1,775.2 Foreign income before taxes 898.1 1,035.0 Total income before taxes$ 3,099.2 $ 2,810.2
Domestic pre-tax return on revenues 14.5 % 13.4 % Foreign pre-tax return on revenues 8.6 % 10.1 % Total pre-tax return on revenues
12.1 % 12.0 % In 2019, domestic income before income taxes and pre-tax return on revenues improved primarily due to higher revenues from truck operations. The decrease in foreign income before income taxes and pre-tax return on revenues was primarily due to lower truck and finance results inEurope and lower truck volumes inAustralia .
LIQUIDITY AND CAPITAL RESOURCES:
($ in millions) At December 31, 2019 2018 Cash and cash equivalents$ 4,175.1 $ 3,435.9 Marketable debt securities 1,162.1 1,020.4$ 5,337.2 $ 4,456.3 The Company's total cash and marketable debt securities atDecember 31, 2019 increased$880.9 million from the balances atDecember 31, 2018 , primarily due to an increase in cash and cash equivalents. 23 --------------------------------------------------------------------------------
The change in cash and cash equivalents is summarized below:
($ in millions) Year Ended December 31, 2019 2018 Operating activities: Net income$ 2,387.9 $ 2,195.1 Net income items not affecting cash 1,190.1
1,123.2
Pension contributions (35.7 ) (88.9 ) Changes in operating assets and liabilities, net (682.0 ) (237.1 ) Net cash provided by operating activities 2,860.3
2,992.3
Net cash used in investing activities (2,207.4 ) (1,930.7 ) Net cash provided by financing activities 83.4
71.1
Effect of exchange rate changes on cash 2.9 (61.5 ) Net increase in cash and cash equivalents 739.2
1,071.2
Cash and cash equivalents at beginning of the year 3,435.9 2,364.7
Cash and cash equivalents at end of the year
Operating activities: Cash provided by operations decreased by$132.0 million to$2.86 billion in 2019 from$2.99 billion in 2018. The decrease in operating cash flows reflects lower cash inflows of$556.5 million from accounts payable and accrued expenses, as payments for goods and services exceeded purchases by$27.6 million in 2019 compared to purchases of goods and services exceeding payments by$528.9 million in 2018. Additionally, lower operating cash flows reflect a reduction in liabilities for RVGs and deferred revenues of$454.7 million , primarily due to a lower volume of new RVG contracts accounted for as operating leases in 2019 compared to 2018. The lower cash inflows were partially offset by higher cash inflow of$357.3 million from inventories as there were$24.6 million in net inventory reductions in 2019 versus$332.7 million in net purchases in 2018. There was a$226.8 million increase from accounts receivable as sales of goods and services exceeding cash receipts were lower in 2019 compared to 2018. In addition, there was a higher net income of$192.8 million and an increase of$140.3 million from income taxes, primarily due to lower tax payments in 2019 compared to 2018. Investing activities: Cash used in investing activities increased by$276.7 million to$2.21 billion in 2019 from$1.93 billion in 2018. Higher net cash used in investing activities reflects$450.7 million for marketable debt securities as there were$135.1 million in net purchases of marketable debt securities in 2019 compared to$315.6 million in net proceeds from sales of marketable debt securities in 2018. Payments for property, plant and equipment increased by$116.4 million . This was partially offset by lower net originations from retail loans and finance leases of$251.9 million and fewer acquisitions of equipment on operating leases of$97.9 million . Financing activities: Cash provided by financing activities was$83.4 million in 2019,$12.3 million higher than the$71.1 million provided in 2018. In 2019, the Company issued$2.50 billion of term debt, repaid term debt of$1.79 billion and increased its outstanding commercial paper and short-term bank loans by$557.1 million . In 2018, the Company issued$2.34 billion of term debt, repaid term debt of$1.76 billion and increased its outstanding commercial paper and short-term bank loans by$625.9 million . This resulted in cash provided by borrowing activities of$1.27 billion in 2019,$60.9 million higher than the cash provided by borrowing activities of$1.21 billion in 2018. The Company paid$1.14 billion in dividends in 2019,$334.3 million higher than the$804.3 million paid in 2018 due primarily to a higher extra dividend paid inJanuary 2019 . In addition, the Company repurchased 1.7 million shares of common stock for$110.2 million in 2019 compared to the purchase of 5.8 million shares for$354.4 million in 2018. Credit Lines and Other: The Company has line of credit arrangements of$3.58 billion , of which$3.27 billion were unused atDecember 31, 2019 . Included in these arrangements are$3.00 billion of committed bank facilities, of which$1.00 billion expires inJune 2020 ,$1.00 billion expires inJune 2023 and$1.00 billion expires inJune 2024 . The Company intends to extend or replace these credit facilities on or before expiration to maintain facilities of similar amounts and duration. These credit facilities are maintained primarily to provide backup liquidity for commercial paper borrowings and maturing medium-term notes. There were no borrowings under the committed bank facilities for the year endedDecember 31, 2019 . 24
-------------------------------------------------------------------------------- OnJuly 9, 2018 ,PACCAR's Board of Directors approved the repurchase of up to$300.0 million of the Company's outstanding common stock, and onDecember 4, 2018 , approved a plan to repurchase an additional$500.0 million of common stock upon completion of the prior plan. During the second quarter of 2019, the Company completed the repurchase of$300.0 million of the Company's common stock under the authorization approved onJuly 9, 2018 . As ofDecember 31, 2019 , the Company has repurchased$69.5 million of shares under theDecember 4, 2018 authorization.
Truck, Parts and Other
The Company provides funding for working capital, capital expenditures, R&D, dividends, stock repurchases and other business initiatives and commitments primarily from cash provided by operations. Management expects this method of funding to continue in the future. Over the past decade, the Company's combined investments in worldwide capital projects and R&D totaled$6.77 billion , and have significantly increased the operating capacity and efficiency of its facilities and enhanced the quality and operating efficiency of the Company's premium products. Capital investments in 2020 are expected to be$625 to$675 million , and R&D is expected to be$310 to$340 million . The Company is investing for long-term growth in aerodynamic truck models, integrated powertrains including diesel, electric, hybrid and hydrogen fuel cell technologies, advanced driver assistance systems, digital services and next-generation manufacturing and distribution capabilities. The Company conducts business in certain countries which have been experiencing or may experience significant financial stress, fiscal or political strain and are subject to the corresponding potential for default. The Company routinely monitors its financial exposure to global financial conditions, global counterparties and operating environments. As ofDecember 31, 2019 , the Company's exposures in such countries were insignificant.
Financial Services
The Company funds its financial services activities primarily from collections on existing finance receivables and borrowings in the capital markets. The primary sources of borrowings in the capital markets are commercial paper and medium-term notes issued in the public markets and, to a lesser extent, bank loans. An additional source of funds is loans from otherPACCAR companies. InNovember 2018 , the Company'sU.S. finance subsidiary,PACCAR Financial Corp. (PFC), filed a shelf registration under the Securities Act of 1933. The total amount of medium-term notes outstanding for PFC as ofDecember 31, 2019 was$5.55 billion . InFebruary 2020 , PFC issued$300.0 million of medium-term notes under this registration. The registration expires inNovember 2021 and does not limit the principal amount of debt securities that may be issued during that period. As ofDecember 31, 2019 , the Company's European finance subsidiary,PACCAR Financial Europe, had €1.35 billion available for issuance under a €2.50 billion medium-term note program listed on theProfessional Securities Market of theLondon Stock Exchange . This program replaced an expiring program in the second quarter of 2019 and is renewable annually through the filing of a new listing. InApril 2016 , PACCAR Financial Mexico registered a10.00 billion peso medium-term note and commercial paper program with the Comision Nacional Bancaria y de Valores. The registration expires inApril 2021 and limits the amount of commercial paper (up to one year) to5.00 billion pesos . AtDecember 31, 2019 ,6.80 billion pesos were available for issuance. InAugust 2018 , the Company's Australian subsidiary, PACCAR Financial Pty. Ltd. (PFPL), registered a medium-term note program. The program does not limit the principal amount of debt securities that may be issued under the program. The total amount of medium-term notes outstanding for PFPL as ofDecember 31, 2019 was300.0 million Australian dollars . The Company believes its cash balances and investments, collections on existing finance receivables, committed bank facilities, and current investment-grade credit ratings of A+/A1 will continue to provide it with sufficient resources and access to capital markets at competitive interest rates and therefore contribute to the Company maintaining its liquidity and financial stability. In the event of a decrease in the Company's credit ratings or a disruption in the financial markets, the Company may not be able to refinance its maturing debt in the financial markets. In such circumstances, the Company would be exposed to liquidity risk to the degree that the timing of debt maturities differs from the timing of receivable collections from customers. The Company believes its various sources of liquidity, including committed bank facilities, would continue to provide it with sufficient funding resources to service its maturing debt obligations. 25
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Commitments
The following summarizes the Company's contractual cash commitments atDecember 31, 2019 : MATURITY WITHIN 1 1-3 3-5 MORE THAN ($ in millions) YEAR YEARS YEARS 5 YEARS TOTAL Borrowings*$ 5,631.3 $ 4,581.1 $ 1,030.8 $ 11,243.2 Purchase obligations 83.8 123.6 .8 208.2 Interest on debt** 156.2 155.5 19.8 331.5 Lease liabilities 15.7 17.9 4.2$ 2.5 40.3 Other obligations 38.7 3.3 1.2 43.2$ 5,925.7 $ 4,881.4 $ 1,056.8 $ 2.5 $ 11,866.4
* Commercial paper included in borrowings is at par value.
** Interest on floating-rate debt is based on the applicable market rates atDecember 31, 2019 . Total cash commitments for borrowings and interest on term debt were$11.57 billion and were related to the Financial Services segment. As described in Note J of the consolidated financial statements, borrowings consist primarily of term notes and commercial paper issued by the Financial Services segment. The Company expects to fund its maturing Financial Services debt obligations principally from funds provided by collections from customers on loans and lease contracts, as well as from the proceeds of commercial paper and medium-term note borrowings. Purchase obligations are the Company's contractual commitments to acquire future production inventory and capital equipment. Other obligations primarily include commitments to purchase energy.
The Company's other commitments include the following at
COMMITMENT EXPIRATION WITHIN 1 1-3 3-5 MORE THAN ($ in millions) YEAR YEARS YEARS 5 YEARS TOTAL Loan and lease commitments$ 885.8 $ 885.8 Residual value guarantees 445.9$ 730.2 $ 131.3 $ 26.7 1,334.1 Letters of credit 9.5 .1 .3 1.4 11.3$ 1,341.2 $ 730.3 $ 131.6 $ 28.1 $ 2,231.2 Loan and lease commitments are for funding new retail loan and lease contracts. Residual value guarantees represent the Company's commitment to acquire trucks at a guaranteed value if the customer decides to return the truck at a specified date in the future.
IMPACT OF ENVIRONMENTAL MATTERS:
The Company, its competitors and industry in general are subject to various domestic and foreign requirements relating to the environment. The Company believes its policies, practices and procedures are designed to prevent unreasonable risk of environmental damage and that its handling, use and disposal of hazardous or toxic substances have been in accordance with environmental laws and regulations in effect at the time such use and disposal occurred.
The Company is involved in various stages of investigations and cleanup actions in different countries related to environmental matters. In certain of these matters, the Company has been designated as a "potentially responsible party" by domestic and foreign environmental agencies. The Company has accrued the estimated costs to investigate and complete cleanup actions where it is probable that the Company will incur such costs in the future. Expenditures related to environmental activities in the years endedDecember 31, 2019 and 2018 were$1.3 million and$1.2 million , respectively. While the timing and amount of the ultimate costs associated with future environmental cleanup cannot be determined, management expects that these matters will not have a significant effect on the Company's consolidated cash flow, liquidity or financial condition. 26 --------------------------------------------------------------------------------
CRITICAL ACCOUNTING POLICIES:
The Company's significant accounting policies are disclosed in Note A of the consolidated financial statements. In the preparation of the Company's financial statements, in accordance withU.S. generally accepted accounting principles, management uses estimates and makes judgments and assumptions that affect asset and liability values and the amounts reported as income and expense during the periods presented. The following are accounting policies which, in the opinion of management, are particularly sensitive and which, if actual results are different from estimates used by management, may have a material impact on the financial statements. Operating Leases Trucks sold pursuant to agreements accounted for as operating leases are disclosed in Note F of the consolidated financial statements. In determining its estimate of the residual value of such vehicles, the Company considers the length of the lease term, the truck model, the expected usage of the truck and anticipated market demand. Operating lease terms generally range from three to five years. The resulting residual values on operating leases generally range between 30% and 70% of the original equipment cost. If the sales price of a truck at the end of the term of the agreement differs from the Company's estimated residual value, a gain or loss will result. Future market conditions, changes in government regulations and other factors outside the Company's control could impact the ultimate sales price of trucks returned under these contracts. Residual values are reviewed regularly and adjusted if market conditions warrant. A decrease in the estimated equipment residual values would increase annual depreciation expense over the remaining lease term. During 2019 and 2018, market values on equipment returning upon operating lease maturity were generally lower than the residual values on the equipment, resulting in an increase in depreciation expense of$109.0 million and$45.7 million , respectively. AtDecember 31, 2019 , the aggregate residual value of equipment on operating leases in the Financial Services segment and residual value guarantee on trucks accounted for as operating leases in the Truck segment was$2.36 billion . A 10% decrease in used truck values worldwide, if expected to persist over the remaining maturities of the Company's operating leases, would reduce residual value estimates and result in the Company recording an average of approximately$67 million of additional depreciation per year.
Allowance for Credit Losses
The allowance for credit losses related to the Company's loans and finance leases is disclosed in Note E of the consolidated financial statements. The Company has developed a systematic methodology for determining the allowance for credit losses for its two portfolio segments, retail and wholesale. The retail segment consists of retail loans and finance leases, net of unearned interest. The wholesale segment consists of truck inventory financing loans to dealers that are collateralized by trucks and other collateral. The wholesale segment generally has less risk than the retail segment. Wholesale receivables generally are shorter in duration than retail receivables, and the Company requires periodic reporting of the wholesale dealer's financial condition, conducts periodic audits of the trucks being financed and in many cases obtains guarantees or other security such as dealership assets. In determining the allowance for credit losses, retail loans and finance leases are evaluated together since they relate to a similar customer base, their contractual terms require regular payment of principal and interest, generally over three to five years, and they are secured by the same type of collateral. The allowance for credit losses consists of both specific and general reserves. The Company individually evaluates certain finance receivables for impairment. Finance receivables that are evaluated individually for impairment consist of all wholesale accounts and certain large retail accounts with past due balances or otherwise determined to be at a higher risk of loss. A finance receivable is impaired if it is considered probable the Company will be unable to collect all contractual interest and principal payments as scheduled. In addition, all retail loans and leases which have been classified as TDRs and all customer accounts over 90 days past due are considered impaired. Generally, impaired accounts are on non-accrual status. Impaired accounts classified as TDRs which have been performing for 90 consecutive days are placed on accrual status if it is deemed probable that the Company will collect all principal and interest payments. Impaired receivables are generally considered collateral dependent. Large balance retail and all wholesale impaired receivables are individually evaluated to determine the appropriate reserve for losses. The determination of reserves for large balance impaired receivables considers the fair value of the associated collateral. When the underlying collateral fair value exceeds the Company's recorded investment, no reserve is recorded. Small balance impaired receivables with similar risk characteristics are evaluated as a separate pool to determine the appropriate reserve for losses using the historical loss information discussed below. 27 -------------------------------------------------------------------------------- The Company evaluates finance receivables that are not individually impaired on a collective basis and determines the general allowance for credit losses for both retail and wholesale receivables based on historical loss information, using past due account data and current market conditions. Information used includes assumptions regarding the likelihood of collecting current and past due accounts, repossession rates, the recovery rate on the underlying collateral based on used truck values and other pledged collateral or recourse. The Company has developed a range of loss estimates for each of its country portfolios based on historical experience, taking into account loss frequency and severity in both strong and weak truck market conditions. A projection is made of the range of estimated credit losses inherent in the portfolio from which an amount is determined as probable based on current market conditions and other factors impacting the creditworthiness of the Company's borrowers and their ability to repay. After determining the appropriate level of the allowance for credit losses, a provision for losses on finance receivables is charged to income as necessary to reflect management's estimate of incurred credit losses, net of recoveries, inherent in the portfolio. The adequacy of the allowance is evaluated quarterly based on the most recent past due account information and current market conditions. As accounts become past due, the likelihood that they will not be fully collected increases. The Company's experience indicates the probability of not fully collecting past due accounts ranges between 30% and 70%. Over the past three years, the Company's year-end 30+ days past due accounts have ranged between .4% and .7% of loan and lease receivables. Historically, a 100 basis point increase in the 30+ days past due percentage has resulted in an increase in credit losses of 2 to 35 basis points of receivables. AtDecember 31, 2019 , 30+ days past dues were .7%. If past dues were 100 basis points higher or 1.7% as ofDecember 31, 2019 , the Company's estimate of credit losses would likely have increased by a range of$2 to$32 million depending on the extent of the past dues, the estimated value of the collateral as compared to amounts owed and general economic factors.
Product Warranty
Product warranty is disclosed in Note I of the consolidated financial statements. The expenses related to product warranty are estimated and recorded at the time products are sold based on historical and current data and reasonable expectations for the future regarding the frequency and cost of warranty claims, net of recoveries. Management takes actions to minimize warranty costs through quality-improvement programs; however, actual claim costs incurred could materially differ from the estimated amounts and require adjustments to the reserve. Historically those adjustments have not been material. Over the past two years, warranty expense as a percentage of Truck, Parts and Other net sales and revenues has ranged between 1.6% and 1.7%. If the 2019 warranty expense had been .2% higher as a percentage of net sales and revenues in 2019, warranty expense would have increased by approximately$48 million . FORWARD-LOOKING STATEMENTS: This report contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include statements relating to future results of operations or financial position and any other statement that does not relate to any historical or current fact. Such statements are based on currently available operating, financial and other information and are subject to risks and uncertainties that may affect actual results. Risks and uncertainties include, but are not limited to: a significant decline in industry sales; competitive pressures; reduced market share; reduced availability of or higher prices for fuel; increased safety, emissions, or other regulations or tariffs resulting in higher costs and/or sales restrictions; currency or commodity price fluctuations; lower used truck prices; insufficient or under-utilization of manufacturing capacity; supplier interruptions; insufficient liquidity in the capital markets; fluctuations in interest rates; changes in the levels of the Financial Services segment new business volume due to unit fluctuations in newPACCAR truck sales or reduced market shares; changes affecting the profitability of truck owners and operators; price changes impacting truck sales prices and residual values; insufficient supplier capacity or access to raw materials; labor disruptions; shortages of commercial truck drivers; increased warranty costs; litigation, including EC settlement-related claims; or legislative and governmental regulations. A more detailed description of these and other risks is included under the heading Part 1, Item 1A, "Risk Factors" and Item 3, "Legal Proceedings" in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2019 . 28
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